J.P. Morgan turned some heads Monday by buying a majority stake in hedge fund Highbridge Capital Management. While most reports of the deal [read Reuters in the New York Times] note that it likely signals a move by banks to bring hedge funds to a broader audience, Andy Kessler provides a different take on the deal in the WSJ.

Highbridge claims $7 billion in assets under management and maintains offices in London, Hong Kong and New York City. After the deal it will operate as a separate entity managed by its founders, Glenn R. Dubin and Henry Swieca. J.P. Morgan has been an active acquire as it builds its asset management franchise. Most recently, it picked up Undiscovered Managers.

Noted hedge fund manager Andy Kessler, though, thinks J.P. Morgan may be motivated as much out of jealousy as business savvy [see the WSJ Opinion article here].

"But banks were on the losing end of the 20-year transition to mutual funds. There was $40 billion in mutual funds in 1980 compared with more than $4 trillion today. Now banks want the money back," writes Kessler.

Is Kessler right? Are hedge funds the next mutual fund? Probably not, and for some of the same reasons that Kessler's says makes them attractive. While funds are limited to growing their assets to increase their revenues (every share is charged the same), hedge funds can juice their revenues by participating in gains. That is attractive on a small scale, but it also breeds a risk-taking culture that runs counter to a mass-market business.

It is also a scheme that is unlikely to fly in the defined contribution market. Kessler writes that: "Fidelity and others figured out how to slice and dice the market, move money around by phone or Web. Over the same period, trust departments at banks, that should have managed every 401K plan, became sclerotic. Capital, not being stupid, flowed to managers that could perform."

DC plan sponsors, who are now focusing in on cost, are unlikely to find hedge products attractive, especially when they can get a far better deal on a separate account.

Kessler is right that pension plan sponsors are looking at hedge funds. He writes: "Pension funds are putting money into them; state treasurers are kicking the tires, eager to invest." But even in those cases the mandates they are assigning a small compared to their total plan assets and smaller pension plans are ignoring this market all together. He also overlooks the fact that DB plans are now dying on the vine (though the death will be protracted).

"My guess is that hedge funds, with just $800 billion in total today, will surpass capital in mutual funds by 2010," he concludes.

If Kessler's prediction is correct it will mean that funds have lost out to more than just hedgers.  

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